-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, PP2sn3IOPq51eyIXRqET0XVN7zLeU4pLwOjBu8jLdsPtP21mSESJfm4f3IPbNSoH Kaq+AThkaCkMvGGtbGqwwQ== 0000009779-99-000008.txt : 19990326 0000009779-99-000008.hdr.sgml : 19990326 ACCESSION NUMBER: 0000009779-99-000008 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990325 FILER: COMPANY DATA: COMPANY CONFORMED NAME: FAIRCHILD CORP CENTRAL INDEX KEY: 0000009779 STANDARD INDUSTRIAL CLASSIFICATION: BOLTS, NUTS, SCREWS, RIVETS & WASHERS [3452] IRS NUMBER: 340728587 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 001-06560 FILM NUMBER: 99572578 BUSINESS ADDRESS: STREET 1: 45025 AVIATION DR STREET 2: STE 400 CITY: DULLES STATE: VA ZIP: 20166 BUSINESS PHONE: 7034785800 MAIL ADDRESS: STREET 1: 45025 AVIATION DRIVE STREET 2: SUITE 400 CITY: DULLES STATE: VA ZIP: 20166 FORMER COMPANY: FORMER CONFORMED NAME: BANNER INDUSTRIES INC /DE/ DATE OF NAME CHANGE: 19901118 10-Q/A 1 26 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q/A QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarterly Period Ended December 27, 1998 Commission File Number 1-6560 THE FAIRCHILD CORPORATION (Exact name of Registrant as specified in its charter) Delaware 34-0728587 (State or other jurisdiction of (I.R.S. Employer Identification No.) Incorporation or organization) 45025 Aviation Drive, Suite 400 Dulles, VA 20166 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (703) 478-5800 Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety (90) days. YES X NO Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Outstanding at Title of Class January 31, 1998 Class A Common Stock, $0.10 Par Value 19,222,606 Class B Common Stock, $0.10 Par Value 2,624,062 AMENDMENT: The purpose of this amendment is to provide restated financial information and additional disclosure for (i) Part I, "Financial Information", and (ii) Part II, Item 6, "Exhibits and Reports on Form 8-K". The Company restated its results to include the loss on the divestiture of Solair, Inc. as part of operating income. The Company is also updating its Year 2000 disclosure. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES INDEX Page PART I. FINANCIAL INFORMATION Item 1.Condensed Consolidated Balance Sheets as of June 30, 1998 and December 27, 1998 (Unaudited) . 3 Consolidated Statements of Earnings for the Three and Six Months ended December 28, 1997 and December 27, 1998 (Unaudited)?? 5 Condensed Consolidated Statements of Cash Flows for the Six Months ended December 28, 1997 and December 27, 1998 (Unaudited) 7 Notes to Condensed Consolidated Financial Statements (Unaudited) 8 Item 2.Management's Discussion and Analysis of Results of Operations and Financial Condition 13 Item 3.Quantitative and Qualitative Disclosure About Market Risk 24 PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 24 * For purposes of Part I and this Form 10-Q, the term "Company" means The Fairchild Corporation, and its subsidiaries, unless otherwise indicated. For purposes of Part II, the term "Company" means The Fairchild Corporation, unless otherwise indicated. PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS June 30, 1998 and December 27, 1998 (Unaudited) (In thousands) ASSETS June 30, Dec. 27, 1998 1998 CURRENT ASSETS: (*) Cash and cash equivalents, $746 and $0 $ $ restricted 49,601 16,063 Short-term investments 3,962 216,260 Accounts receivable-trade, less 120,284 95,435 allowances of $5,655 and $3,079 Inventories: Finished goods 187,205 146,466 Work-in-process 20,642 19,074 Raw materials 9,635 9,142 217,482 174,682 Net current assets of discontinued 11,613 1,670 operations Prepaid expenses and other current 53,081 52,870 assets Total Current Assets 456,023 556,980 Property, plant and equipment, net of accumulated depreciation of $82,968 and $98,382 118,963 124,446 Net assets held for sale 23,789 20,794 Net noncurrent assets of discontinued 8,541 10,945 operations Cost in excess of net assets acquired (Goodwill), less accumulated amortization of $42,079 168,307 167,262 and $43,581 Investments and advances, affiliated 27,568 28,416 companies Prepaid pension assets 61,643 62,246 Deferred loan costs 6,362 5,879 Long-term investments 235,435 36,398 Other assets 50,628 70,275 TOTAL ASSETS $ $ 1,157,259 1,083,641 *Condensed from audited financial statements. The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS June 30, 1998 and December 27, 1998 (Unaudited) (In thousands) LIABILITIES AND STOCKHOLDERS' EQUITY June 30, Dec. 27, 1998 1998 CURRENT LIABILITIES: (*) Bank notes payable and current $ $ maturities of long-term debt 20,665 25,287 Accounts payable 53,859 36,511 Accrued salaries, wages and commissions 23,613 19,837 Accrued employee benefit plan costs 1,463 1,741 Accrued insurance 12,575 12,234 Accrued interest 2,303 1,581 Other accrued liabilities 52,789 56,424 Income taxes 28,311 8,397 Total Current Liabilities 195,578 162,012 LONG-TERM LIABILITES: Long-term debt, less current maturities 295,402 278,229 Other long-term liabilities 23,767 24,707 Retiree health care liabilities 42,103 43,127 Noncurrent income taxes 95,176 107,871 Minority interest in subsidiaries 31,674 28,075 TOTAL LIABILITIES 683,700 644,021 STOCKHOLDERS' EQUITY: Class A common stock, $0.10 par value; authorized 40,000 shares, 26,709 (26,679 in June) shares issued and 19,219 (20,429 in June) shares 2,667 2,671 outstanding Class B common stock, $0.10 par value; authorized 20,000 shares, 2,624 (2,625 in June) shares 263 262 issued and outstanding Paid-in capital 195,112 195,291 Retained earnings 311,039 294,222 Cumulative other comprehensive income 16,386 21,183 Treasury Stock, at cost, 7,490 (6,250 in (51,908) (74,009) June) shares of Class A common stock TOTAL STOCKHOLDERS' EQUITY 473,559 439,620 TOTAL LIABILITIES AND STOCKHOLDERS' $ $ EQUITY 1,157,259 1,083,641 *Condensed from audited financial statements The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES CONDENSED STATEMENTS OF EARNINGS (Unaudited) For The Three (3) and Six (6) Months Ended December 28, 1997 and December 27, 1998 (In thousands, except per share data) Three Six Months Ended Months Ended 12/28/97 12/27/98 12/28/97 12/27/98 REVENUE: Net sales $ $ $ $ 208,616 151,181 402,978 299,720 Other income, net 49 350 4,604 769 208,665 151,531 407,582 300,489 COSTS AND EXPENSES: Cost of goods sold 151,794 133,119 299,827 246,986 Selling, general & administrative 42,259 27,272 78,968 55,446 Amortization of goodwill 1,387 1,360 2,606 2,638 195,440 161,751 381,401 305,070 OPERATING INCOME (LOSS) 13,225 (10,220) 26,181 (4,581) Interest expense 15,683 7,770 28,658 15,206 Interest income (524) (476) (914) (1,059) Net interest expense 15,159 7,294 27,744 14,147 Investment income (loss) (7,077) (1,027) (5,180) 834 Loss from continuing operations before taxes (9,011) (18,541) (6,743) (17,894) Income tax benefit 4,869 6,724 3,863 6,433 Equity in earnings of affiliates, net 279 652 1,379 1,689 Minority interest, net (742) 2,338 (1,875) 2,135 Loss from continuing operations (4,605) (8,827) (3,376) (7,637) Loss from discontinued operations, net (1,945) - (2,682) - Gain (loss) on disposal of discontinued operations, net 29,974 (9,180) 29,974 (9,180) Extraordinary items, net (3,024) - (3,024) - NET EARNINGS (LOSS) $ $ $ $ 20,400 (18,007) 20,892 (16,817) Other comprehensive income (loss), net of tax: Foreign currency translation adjustments (2,567) 2,306 (1,572) 7,552 Unrealized holding gains (losses) on securities - 27,633 - (2,755) Other comprehensive income (loss) (2,567) 29,939 (1,572) 4,797 COMPREHENSIVE INCOME (LOSS) $ $ $ $ 17,833 11,932 19,320 (12,020) The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES CONDENSED STATEMENTS OF EARNINGS (Unaudited) For The Three (3) and Six (6) Months Ended December 28, 1997 and December 27, 1998 (In thousands, except per share data) Three Six Months Ended Months Ended 12/28/97 12/27/98 12/28/97 12/27/98 BASIC EARNINGS PER SHARE: Loss from continuing operations $ $ $ $ (0.27) (0.40) (0.20) (0.35) Loss from discontinued operations, net (0.11) - (0.16) - Gain (loss) on disposal of discontinued operations, net 1.75 (0.42) 1.78 (0.41) Extraordinary items, net (0.18) - (0.18) - NET EARNINGS (LOSS) $ $ $ $ 1.19 (0.82) 1.24 (0.76) Other comprehensive income (loss), net of tax: Foreign currency translation $ $ $ $ adjustments (0.15) 0.11 (0.09) 0.34 Unrealized holding losses on securities arising during the period - 1.26 - (0.12) Other comprehensive income (loss) (0.15) 1.37 (0.09) 0.22 COMPREHENSIVE INCOME (LOSS) $ $ $ $ 1.04 0.55 1.15 (0.54) DILUTED EARNINGS PER SHARE: Loss from continuing operations $ $ $ $ (0.27) (0.40) (0.20) (0.35) Loss from discontinued operations, net (0.11) - (0.16) - Gain (loss) on disposal of discontinued operations, net 1.75 (0.42) 1.78 (0.41) Extraordinary items, net (0.18) - (0.18) - NET EARNINGS (LOSS) $ $ $ $ 1.19 (0.82) 1.24 (0.76) Other comprehensive income (loss), net of tax: Foreign currency translation $ $ $ $ adjustments (0.15) 0.11 (0.09) 0.34 Unrealized holding losses on securities arising during the period - 1.26 - (0.12) Other comprehensive income (loss) (0.15) 1.37 (0.09) 0.22 COMPREHENSIVE INCOME (LOSS) $ $ $ $ 1.04 0.55 1.15 (0.54) Weighted average shares outstanding: Basic 17,088 21,872 16,864 22,129 Diluted 17,088 21,872 16,864 22,129 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) For The Six (6) Months Ended December 28, 1997 and December 27, 1998 (In thousands) For the Six Months Ended 12/28/9 12/27/9 7 8 Cash flows from operating activities: Net earnings (loss) $ $ 20,892 (16,817 ) Depreciation of fixed assets and amortization of goodwill 11,623 11,476 Amortization of deferred loan fees 1,487 388 Accretion of discount on long-term liabilities 1,686 2,578 Net loss on divestiture of subsidiary - 13,500 Net gain on disposal of discontinued operations (29,974 - ) Extraordinary items, net of cash payments 3,024 - Distributed (undistributed) earnings of affiliates, net 344 (777) Minority interest 1,875 (2,135) Change in assets and liabilities (98,453 (36,471 ) ) Non-cash charges and working capital changes of discontinued operations (4,349) (8,559) Net cash used for operating activities (91,845 (36,817 ) ) Cash flows from investing activities: Purchase of property, plant and equipment (15,964 (13,574 ) ) Acquisition of subsidiaries, net of cash (11,774 acquired ) - Proceeds received from (used for) investment securities, net 5,786 (15,648 ) Net proceeds received from the divestiture - 60,397 of subsidiary Net proceeds received from the disposal of 84,733 - discontinued operations Changes in net assets held for sale (324) 3,335 Other, net 179 238 Investing activities of discontinued operations (3,119) (223) Net cash provided by investing activities 59,517 34,525 Cash flows from financing activities: Proceeds from issuance of debt 143,712 55,777 Debt repayments and repurchase of debentures, net (145,13 (69,375 0) ) Issuance of Class A common stock 53,921 182 Purchase of treasury stock - (22,101 ) Financing activities of discontinued operations - 121 Net cash provided by (used for) financing activities 52,503 (35,396 ) Effect of exchange rate changes on cash (688) 4,150 Net change in cash and cash equivalents 19,487 (33,538 ) Cash and cash equivalents, beginning of the year 19,420 49,601 Cash and cash equivalents, end of the $ $ period 38,907 16,063 The accompanying Notes to Consolidated Financial Statements are an integral part of these statements. THE FAIRCHILD CORPORATION AND CONSOLIDATED SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (In thousands, except share data) 1. FINANCIAL STATEMENTS The consolidated balance sheet as of December 27, 1998 and the consolidated statements of earnings and cash flows for the six months ended December 28, 1997 and December 27, 1998 have been prepared by the Company, without audit. In the opinion of management, all adjustments (consisting of normal recurring adjustments) necessary to present fairly the financial position, results of operations and cash flows at December 27, 1998, and for all periods presented, have been made. The balance sheet at June 30, 1998 was condensed from the audited financial statements as of that date. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. These consolidated financial statements should be read in conjunction with the financial statements and notes thereto included in the Company's June 30, 1998 Annual Report on Form 10-K and the Banner Aerospace, Inc. March 31, 1998 Annual Report on Form 10-K. The results of operations for the period ended December 27, 1998 are not necessarily indicative of the operating results for the full year. Certain amounts in the prior year's quarterly financial statements have been reclassified to conform to the current presentation. 2. BUSINESS COMBINATIONS The Company has accounted for the following acquisitions by using the purchase method. The respective purchase price is assigned to the net assets acquired based on the fair value of such assets and liabilities at the respective acquisition dates. On November 28, 1997, the Company acquired AS+C GmbH, Aviation Supply + Consulting ("AS+C") in a business combination accounted for as a purchase. The total cost of the acquisition was $14.0 million, which exceeded the fair value of the net assets of AS+C by approximately $8.1 million, which is allocated as goodwill and amortized using the straight- line method over 40 years. The Company purchased AS+C with cash borrowings. AS+C is an aerospace parts, logistics, and distribution company primarily servicing the European original equipment manufacturers market. On March 2, 1998, the Company consummated the acquisition of Edwards and Lock Management Corporation, doing business as Special-T Fasteners, in a business combination accounted for as a purchase. The cost of the acquisition was approximately $50.0 million, of which 50.1% of the contractual purchase price was paid in shares of Class A Common Stock of the Company and 49.9% was paid in cash. The total cost of the acquisition exceeded the fair value of the net assets of Special-T by approximately $23.6 million, which is preliminarily being allocated as goodwill, and amortized using the straight-line method over 40 years. Special-T manages the logistics of worldwide distribution of Company manufactured precision fasteners to customers in the aerospace industry, government agencies, OEM's, and other distributors. On January 13, 1998, Banner completed the disposition of substantially all of the assets and certain liabilities of certain subsidiaries to AlliedSignal Inc., in exchange for shares of AlliedSignal Inc. common stock with an aggregate value equal to $369 million. The assets transferred to AlliedSignal Inc. consisted primarily of Banner's hardware group, which included the distribution of bearings, nuts, bolts, screws, rivets and other types of fasteners, and its PacAero unit. Approximately $196 million of the common stock received from AlliedSignal Inc. was used to repay outstanding term loans of Banner's subsidiaries and related fees. The Company accounts for its remaining investment in AlliedSignal Inc. common stock as an available-for-sale security. On December 31, 1998, Banner consummated the sale of Solair, Inc., it's largest subsidiary in the rotables group, to Kellstrom Industries, Inc., in exchange for approximately $60.4 million in cash and a warrant to purchase 300,000 shares of common stock of Kellstrom. In December 1998, Banner recorded a $19.3 million pre-tax loss from the sale of Solair. This loss was included in cost of goods sold as it was primarily attributable to the bulk sale of inventory at prices below the carrying amount of inventory. 3. DISCONTINUED OPERATIONS For the Company's fiscal years ended June 30, 1996, 1997, 1998, and for the first six months of fiscal 1999, Fairchild Technologies ("Technologies") had pre-tax operating losses of approximately $1.5 million, $3.6 million, $48.7 million, and $16.1 million, respectively. The after-tax operating loss from Technologies exceeded the previous recorded estimate for expected losses on disposal by $2.9 million through December 1998. An additional after-tax charge of $6.2 million was recorded in the six months ended December 27, 1998, based on the current estimate of the remaining losses in connection with the disposition of Technologies. While the Company believes that $6.2 million is a reasonable charge for the remaining expected losses in connection with the disposition of Technologies, there can be no assurance that this estimate is adequate. Additional information regarding discontinued operations is set forth in Footnote 4 of the Consolidated Financial Statements of the Company's June 30, 1998 Annual Report on Form 10-K. 4. PRO FORMA FINANCIAL STATEMENTS The unaudited pro forma consolidated financial information for the six months ended December 28, 1997, present the results of the Company's operations as though the divestitures of Banner's hardware group and Solair, and the acquisitions of Special-T and AS+C, had been in effect since the beginning of fiscal 1998. The unaudited pro forma consolidated financial information for the six months ended December 27, 1998 provide the results of the Company's operations as though the divestiture of Solair had been in effect since the beginning of fiscal 1999. The pro forma information is based on the historical financial statements of the Company, Banner, Special-T, and AS+C giving effect to the aforementioned transactions. In preparing the pro forma data, certain assumptions and adjustments have been made, including reduced interest expense for revised debt structures and estimates of changes to goodwill amortization. The following unaudited pro forma information are not necessarily indicative of the results of operations that actually would have occurred if the transactions had been in effect since the beginning of each period, nor are they indicative of future results of the Company. For the Six Months Ended December December 28, 27, 1997 1998 Net sales $ $ 259,672 271,401 Gross profit 66,081 59,039 Earnings (loss) from continuing operations (6,313) 4,960 Earnings (loss) from continuing operations, $ $ per share (0.37) 0.22 The pro forma financial information has not been adjusted for non- recurring gains from disposal of discontinued operations, reductions in interest expense and investment income that have occurred or are expected to occur from these transactions within the ensuing year. 5. EQUITY SECURITIES The Company had 19,219,006 shares of Class A common stock and 2,624,662 shares of Class B common stock outstanding at December 27, 1998. Class A common stock is traded on both the New York and Pacific Stock Exchanges. There is no public market for the Class B common stock. Shares of Class A common stock are entitled to one vote per share and cannot be exchanged for shares of Class B common stock. Shares of Class B common stock are entitled to ten votes per share and can be exchanged, at any time, for shares of Class A common stock on a share-for-share basis. For the six months ended December 27, 1998, 13,825 shares of Class A Common Stock were issued as a result of the exercise of stock options, and shareholders converted 54 shares of Class B common stock into Class A common stock. In accordance with terms of the Special-T Acquisition, as amended, during the six months ended December 27, 1998, the Company issued 9,911 restricted shares of the Company's Class A Common Stock for additional merger consideration. Additionally, the Company's Class A common stock outstanding was effectively reduced as a result of 1,239,750 shares purchased by Banner. The shares purchased by Banner are considered as treasury stock for accounting purposes. 6. RESTRICTED CASH On December 27, 1998, the Company did not have any restricted cash. On June 30, 1998, the Company had restricted cash of approximately $746, all of which was maintained as collateral for certain debt facilities. 7. SUMMARIZED STATEMENT OF EARNINGS INFORMATION The following table presents summarized historical financial information, on a combined 100% basis, of the Company's principal investments, which are accounted for using the equity method. For the Six Months Ended December December 28, 27, 1997 1998 Net sales $ $ 48,841 40,226 Gross profit 18,191 15,236 Earnings from continuing operations 8,132 8,929 Net earnings 8,132 8,929 The Company owns approximately 31.9% of Nacanco Paketleme common stock. The Company recorded equity earnings of $1,680 (net of an income tax provision of $904) and $1,841 (net of an income tax provision of $991) from this investment for the six months ended December 28, 1997 and December 27, 1998, respectively. 8. MINORITY INTEREST IN CONSOLIDATED SUBSIDIARIES On December 27, 1998, the Company had $28,075 of minority interest, of which $28,066 represents Banner. Minority shareholders hold approximately 17% of Banner's outstanding common stock. For additional information regarding the Company's proposal to acquire all the remaining stock in Banner it does not already own, please refer to Note 11. 9. EARNINGS PER SHARE The following table illustrates the computation of basic and diluted earnings per share: Three Six Months Months Ended Ended 12/28/9 12/27/9 12/28/9 12/27/9 7 8 7 8 Basic earnings per share: Loss from continuing operations $ $ $ $ (4,605) (8,827) (3,376) (7,637) Common shares outstanding 17,088 21,872 16,864 22,129 Basic loss per share: Basic loss from continuing $ $ $ $ operations per share (0.27) (0.40) (0.20) (0.35) Diluted earnings per share: Loss from continuing operations $ $ $ $ (4,605) (8,827) (3,376) (7,637) Common shares outstanding 17,088 21,872 16,864 22,129 Options antidil antidil antidil antidil utive utive utive utive Warrants antidil antidil antidil antidil utive utive utive utive Total shares outstanding 17,088 21,872 16,864 22,129 Diluted loss from continuing $ $ $ $ operations per share (0.27) (0.40) (0.20) (0.35) For the three-month and six-month periods ended December 28, 1997 and December 27, 1998, the computation of diluted loss from continuing operations per share exclude the effect of incremental common shares attributable to the potential exercise of common stock options outstanding and warrants outstanding, because their effect was antidilutive. No adjustments were made to earnings per share calculations for discontinued operations and extraordinary items. 10. CONTINGENCIES Government Claims The Corporate Administrative Contracting Officer (the "ACO"), based upon the advice of the United States Defense Contract Audit Agency, has made a determination that Fairchild Industries, Inc. ("FII"), a former subsidiary of the Company, did not comply with Federal Acquisition Regulations and Cost Accounting Standards in accounting for (i) the 1985 reversion to FII of certain assets of terminated defined benefit pension plans, and (ii) pension costs upon the closing of segments of FII's business. The ACO has directed FII to prepare cost impact proposals relating to such plan terminations and segment closings and, following receipt of such cost impact proposals, may seek adjustments to contract prices. The ACO alleges that substantial amounts will be due if such adjustments are made, however, an estimate of the possible loss or range of loss from the ACO's assertion cannot be made. The Company believes it has properly accounted for the asset reversions in accordance with applicable accounting standards. The Company has held discussions with the government to attempt to resolve these pension accounting issues. Environmental Matters The Company's operations are subject to stringent government imposed environmental laws and regulations concerning, among other things, the discharge of materials into the environment and the generation, handling, storage, transportation and disposal of waste and hazardous materials. To date, such laws and regulations have not had a material effect on the financial condition, results of operations, or net cash flows of the Company, although the Company has expended, and can be expected to expend in the future, significant amounts for investigation of environmental conditions and installation of environmental control facilities, remediation of environmental conditions and other similar matters, particularly in the Aerospace Fasteners segment. In connection with its plans to dispose of certain real estate, the Company must investigate environmental conditions and may be required to take certain corrective action prior or pursuant to any such disposition. In addition, management has identified several areas of potential contamination at or from other facilities owned, or previously owned, by the Company, that may require the Company either to take corrective action or to contribute to a clean-up. The Company is also a defendant in certain lawsuits and proceedings seeking to require the Company to pay for investigation or remediation of environmental matters and has been alleged to be a potentially responsible party at various "Superfund" sites. Management of the Company believes that it has recorded adequate reserves in its financial statements to complete such investigation and take any necessary corrective actions or make any necessary contributions. No amounts have been recorded as due from third parties, including insurers, or set off against, any liability of the Company, unless such parties are contractually obligated to contribute and are not disputing such liability. As of December 27, 1998, the consolidated total recorded liabilities of the Company for environmental matters was approximately $8.9 million, which represented the estimated probable exposures for these matters. It is reasonably possible that the Company's total exposure for these matters could be approximately $15.0 million. Other Matters In connection with the disposition of Banner's hardware business, the Company received notice on January 12, 1999 from AlliedSignal making indemnification claims against the Company for $18.9 million. Although the Company believes that the amount of the claim is far in excess of any amount that AlliedSignal is entitled to recover from the Company, the Company is in the process of reviewing such claims and is unable to predict the ultimate outcome of such matter. The Company is involved in various other claims and lawsuits incidental to its business, some of which involve substantial amounts. The Company, either on its own or through its insurance carriers, is contesting these matters. In the opinion of management, the ultimate resolution of the legal proceedings, including those mentioned above, will not have a material adverse effect on the financial condition, or future results of operations or net cash flows of the Company. 11. SUBSEQUENT EVENTS On December 28, 1998, the Company announced that it had signed a definitive merger agreement to acquire Kaynar Technologies Inc., an aerospace and industrial fastener manufacturer and tooling company, through a merger of Kaynar with a wholly-owned subsidiary of the Company. The purchase price is $239 million for Kaynar common and preferred stock, $28 million for a covenant not to compete from the majority Kaynar shareholder, and the Company will assume approximately $98 million of Kaynar's debt. A majority of the holders of all classes of Kaynar stock have agreed to vote in favor of the merger. The transaction is subject to certain conditions, including financing and regulatory approval. On January 11, 1999, the Company reached an agreement and plan of merger to acquire all of the remaining stock of Banner not already owned by the Company. Currently, the Company owns approximately 85% of Banner's capital stock, consisting of Banner common stock and Banner preferred stock, and public shareholders own the remainder. The merger agreement is subject to approval by Banner stockholders, and certain other conditions being satisfied or waived. Pursuant to the merger agreement, each outstanding share of Banner's common stock, other than shares owned by the Company and its affiliates, will be converted into the right to receive $11.00 in market value of newly issued shares of the Company's Class A Common Stock. The merger consideration is subject to adjustments based on the price of the Company's Class A Common Stock and the value of certain shares of AlliedSignal common stock owned by Banner. The Company and Banner believe that combining will more closely coordinate the activities of the two companies. In addition, the Company expects that the merger will provide opportunities for reducing expenses, including saving the costs of operating Banner as a separate public company. After the merger, Banner will be a wholly-owned subsidiary of Fairchild. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION The Fairchild Corporation (the "Company") was incorporated in October 1969, under the laws of the State of Delaware. On November 15, 1990, the Company changed its name from Banner Industries, Inc. to The Fairchild Corporation. The Company is the owner of 100% of RHI Holdings, Inc. and the majority owner of Banner Aerospace, Inc. RHI is the owner of 100% of Fairchild Holding Corp. The Company's principal operations are conducted through Banner and FHC. The Company holds a significant equity interest in Nacanco Paketleme, and, during the period covered by this report, held a significant equity interest in Shared Technologies Fairchild Inc. ("STFI"). (See Note 4 to the June 30, 1998 Form 10-K Consolidated Financial Statements, as to the disposition of the Company's interest in STFI.) The following discussion and analysis provide information which management believes is relevant to assessment and understanding of the Company's consolidated results of operations and financial condition. The discussion should be read in conjunction with the consolidated financial statements and notes thereto. GENERAL The Company is a leading worldwide aerospace and industrial fastener manufacturer and distributor. Through its 83% owned subsidiary, Banner, the Company is also an international supplier to the aerospace industry, distributing a wide range of aircraft parts and related support services. Through internal growth and strategic acquisitions, the Company has become one of the leading aircraft parts suppliers to aircraft manufacturers and aerospace hardware distributors. The Company's aerospace business consists of two segments: aerospace fasteners and aerospace parts distribution. The aerospace fasteners segment manufactures and markets high performance fastening systems used in the manufacture and maintenance of commercial and military aircraft. The aerospace distribution segment stocks and distributes a wide variety of aircraft parts to commercial airlines and air cargo carriers, fixed-base operators, corporate aircraft operators and other aerospace companies. CAUTIONARY STATEMENT Certain statements in the financial discussion and analysis by management contain forward-looking information that involve risk and uncertainty, including current trend information, projections for deliveries, backlog, and other trend projections. Actual future results may differ materially depending on a variety of factors, including product demand; performance issues with key suppliers; customer satisfaction and qualification issues; labor disputes; governmental export and import policies; worldwide political stability and economic growth; and legal proceedings. RESULTS OF OPERATIONS Business Combinations The following business combinations completed by the Company over the past twelve months significantly effect the comparability of the results from the current period to the prior period. On November 20, 1997, STFI entered into a merger agreement with Intermedia Communications Inc. ("Intermedia") pursuant to which holders of STFI common stock received $15.00 per share in cash (the "STFI Merger"). The Company was paid approximately $178.0 million in cash (before tax and selling expenses) in exchange for the common and preferred stock of STFI owned by the Company. The results of STFI have been accounted for as discontinued operations. On November 28, 1997, the Company acquired AS+C GmbH, Aviation Supply + Consulting ("AS+C") in a business combination accounted for as a purchase. The total cost of the acquisition was $14.0 million, which exceeded the fair value of the net assets of AS+C by approximately $8.1 million, which is allocated as goodwill and amortized using the straight- line method over 40 years. The Company purchased AS+C with cash borrowings. AS+C is an aerospace parts, logistics, and distribution company primarily servicing the European original equipment manufacturers ("OEMs") market. On March 2, 1998, the Company consummated the acquisition of Edwards and Lock Management Corporation, doing business as Special-T Fasteners, in a business combination accounted for as a purchase. The cost of the acquisition was approximately $50.0 million, of which 50.1% of the contractual purchase price for the acquisition was paid in shares of Class A Common Stock of the Company and 49.9% was paid in cash. The total cost of the acquisition exceeded the fair value of the net assets of Special-T by approximately $23.6 million, which is preliminarily being allocated as goodwill, and amortized using the straight-line method over 40 years. Special-T manages the logistics of worldwide distribution of Company manufactured precision fasteners to customers in the aerospace industry, government agencies, OEMs, and other distributors. On January 13, 1998, Banner completed the disposition of substantially all of the assets and certain liabilities of certain subsidiaries to AlliedSignal Inc., in exchange for shares of AlliedSignal Inc. common stock with an aggregate value equal to $369 million. The assets transferred to AlliedSignal Inc. consisted primarily of Banner's hardware group, which included the distribution of bearings, nuts, bolts, screws, rivets and other types of fasteners, and its PacAero unit. Approximately $196 million of the common stock received from AlliedSignal Inc. was used to repay outstanding term loans of Banner's subsidiaries and related fees. The Company accounts for its remaining investment in AlliedSignal Inc. common stock as an available-for-sale security. On December 31, 1998, Banner consummated the sale of Solair, Inc., it's largest subsidiary in the rotables group, to Kellstrom Industries, Inc., in exchange for approximately $60.4 million in cash and a warrant to purchase 300,000 shares of common stock of Kellstrom. In December 1998, Banner recorded a $19.3 million pre-tax loss from the sale of Solair. This loss was included in cost of goods sold as it was primarily attributable to the bulk sale of inventory at prices below the carrying amount of inventory. Consolidated Results The Company currently reports in two principal business segments: Aerospace Fasteners and Aerospace Distribution. The results of the Gas Springs Division are included in the Corporate and Other classification. The following table illustrates the historical sales and operating income of the Company's operations for the three and six months ended December 27, 1998 and December 28, 1997, respectively. (In thousands) Three Six Months Months Ended Ended 12/28/9 12/27/9 12/28/9 12/27/9 7 8 7 8 Sales by Segment: Aerospace Fasteners $ $ $ $ 91,014 102,764 167,861 199,322 Aerospace Distribution 119,614 46,838 242,528 97,366 Corporate and Other 1,362 1,579 2,724 3,032 Intersegment Eliminations (a) (3,374) - (10,135 - ) TOTAL SALES $ $ $ $ 208,616 151,181 402,978 299,720 Operating Results by Segment: Aerospace Fasteners $ $ $ $ 6,382 10,647 8,892 18,477 Aerospace Distribution 7,714 (17,285 17,085 (15,567 ) ) Corporate and Other (871) (3,582) 204 (7,491) OPERATING INCOME (LOSS) $ $ $ $ 13,225 (10,220 26,181 (4,581) ) (a) Represents intersegment sales from the Aerospace Fasteners segment to the Aerospace Distribution segment. The following table illustrates sales and operating income of the Company's operations by segment, on an unaudited pro forma basis, as though the divestitures of Banner's hardware group and Solair, and the acquisitions of Special-T and AS+C had been in effect for the three and six months ended December 28, 1997, and the divestiture of Solair had been in effect for the three and six months ended December 27, 1998. The pro forma information is based on the historical financial statements of the Company, Banner, Special-T, and AS+C giving effect to the aforementioned transactions. The pro forma information is not necessarily indicative of the results of operations that would actually have occurred if the transactions had been in effect since the beginning of each period, nor is it necessarily indicative of future results of the Company. (In thousands) Three Six Months Months Ended Ended 12/28/9 12/27/9 12/28/9 12/27/9 7 8 7 8 Sales by Segment: Aerospace Fasteners $ $ $ $ 98,391 102,764 184,215 199,322 Aerospace Distribution 34,710 34,946 72,733 69,047 Corporate and Other 1,362 1,579 2,724 3,032 TOTAL SALES $ $ $ $ 134,463 139,289 259,672 271,401 Operating Results by Segment: Aerospace Fasteners $ $ $ $ 8,011 10,647 12,480 18,477 Aerospace Distribution 1,849 1,652 5,574 3,575 Corporate and Other (1,505) (3,582) (265) (7,491) OPERATING INCOME $ $ $ $ 8,355 8,717 17,789 14,561 Net sales of $151.2 million in the second quarter of fiscal 1999 decreased by $57.4 million, or 27.5%, compared to sales of $208.6 million in the second quarter of fiscal 1998. Net sales of $299.7 million in the first six months of fiscal 1999 decreased by $103.3 million, or 25.6%, compared to sales of $403.0 million in the first six months of fiscal 1998. This decrease is primarily attributable to the loss of revenues resulting from the disposition of Banner's hardware group. Approximately 2.3% of the fiscal 1999 second quarter and 2.9% of the current six months sales growth was stimulated by the commercial aerospace industry. Recent acquisitions contributed approximately 3.5% and 4.1% to sales growth in the fiscal 1999 second quarter and six-month periods, respectively. While divestitures decreased growth by approximately 33.4% and 32.6% in the fiscal 1999 second quarter and six-month periods, respectively. On a pro forma basis, net sales increased 3.6% and 4.5% for the three and six months ended December 27, 1998, respectively, compared to the same periods ended December 28, 1997. Gross margin as a percentage of sales was 11.9% and 17.6% in the three and six months ended December 27, 1998, respectively. Included in cost of goods sold was a charge of $19.3 million recognized on the sale of Solair. This charge was attributable primarily to the bulk sale of inventory at prices below the carrying amount of the inventory. Excluding this charge, gross margin as a percentage of sales was 20.3% and 24.7% in the second quarter of fiscal 1998 and 1999, respectively, and 25.6% and 24.0% in the first six months of fiscal 1998 and 1999, respectively. The lower margins in the fiscal 1999 period are attributable to a change in product mix in the Aerospace Distribution segment as a result of the disposition of Banner's hardware group. Partially offsetting the overall lower margins was an improvement in margins within the Aerospace Fasteners segment resulting from acquisitions, efficiencies associated with increased production, improved skills of the work force, and reduction in the payment of overtime. Selling, general & administrative expense as a percentage of sales was 20.3% and 18.0% in the second quarter of fiscal 1998 and 1999, respectively, and 19.6% and 18.5% in the six month period of fiscal 1998 and 1999, respectively. The improvement in the fiscal 1999 periods is attributable primarily to administrative efficiencies of the Company's ongoing operations. Other income decreased $3.8 million in the first six months of fiscal 1999, compared to the first six months of fiscal 1998. The Company recognized $4.4 million of income in the prior period from the involuntary conversion of air rights over a portion of the property the Company owns and is developing in Farmingdale, New York. Operating income for the six months ended December 27, 1998 decreased $30.8 million from the comparable prior period, of which $19.3 million was a charge attributable primarily to the bulk sale of inventory at prices below the carrying amount of the inventory. Excluding the charge related to the sale of Solair in the current period, operating income would have been $9.1 million in the second quarter of fiscal 1999, a decrease of 31.2% compared to operating income of $13.2 million in the second quarter of fiscal 1998. Excluding the charge related to the sale of Solair in the current period, Operating income would have been $14.7 million in the first six months of fiscal 1999, a decrease of 43.7% compared to operating income of $26.2 million in the fiscal 1998 six-month period. The decreases are primarily attributable to the loss of operating income resulting from the disposition of Banner's hardware group and the decrease in other income. Net interest expense decreased $7.9 million, or 51.9%, in second quarter of fiscal 1999, compared to the second quarter of fiscal 1998. Net interest expense decreased $13.6 million, or 49.0%, in first six months of fiscal 1999, compared to the same period of fiscal 1998. The decreases in the current year were due to a series of transactions completed in fiscal 1998, which significantly reduced the Company's total debt. Investment income (loss) improved by $6.0 million in the first six months of fiscal 1999, compared to the same period of fiscal 1998, due to recognizing realized gains in the fiscal 1999 period while recording unrealized holding losses on fair market adjustments of trading securities in the fiscal 1998 period. Minority interest improved by $4.0 million in the first six months of fiscal 1999 due to losses reported by Banner in the fiscal 1999 periods primarily resulting from the divestiture of Solair, Inc. An income tax benefit of $6.4 million in the first six months of fiscal 1999 represented a 36.0% effective tax rate on pre-tax losses from continuing operations. The tax provision was slightly higher than the statutory rate because amortization of goodwill is not deductible for income tax purposes. Included in loss from discontinued operations for the six months ended December 28, 1997, are the results of Fairchild Technologies ("Technologies") and the Company's equity in earnings of STFI prior to the STFI Merger. The Company reported a $30.0 million after-tax gain on disposal of discontinued operations in the fiscal 1998 periods resulting from the disposition of a portion of its investment in STFI. The Company reported a $9.2 million loss on disposal of discontinued operations in the fiscal 1999 periods. This charge is the result of the after-tax operating loss from Technologies exceeding the previous estimate for expected losses from disposal by $2.9 million through December 1998, and the Company taking an additional $6.2 million after-tax charge based on the current estimate of remaining losses in connection with the disposition. While the Company believes that $6.2 million is a reasonable charge for the remaining expected losses in connection with the disposition of Technologies, there can be no assurance that this estimate is adequate. In the fiscal 1998 periods ended December 28, 1997, the Company recorded a $3.0 million extraordinary loss, net, from the write-off of deferred loan fees associated with the early extinguishment of credit facilities that were significantly modified and replaced as part of a refinancing. Comprehensive income (loss) includes foreign currency translation adjustments and unrealized holding changes in the fair market value of available-for-sale investment securities. Foreign currency translation adjustments increased by $2.3 million and $7.6 million in the three and six months ended December 27, 1998. The fair market value of unrealized holding securities increased by $27.6 million in the second quarter and declined by $2.8 million in the six months ended December 27, 1998. The changes reflect primarily market fluctuations in the value of AlliedSignal common stock, which the Company received from the disposition of Banner's hardware group. Segment Results Aerospace Fasteners Segment Sales in the Aerospace Fasteners segment increased by $11.8 million in the second quarter of fiscal 1999 and $31.5 million in the first six months of fiscal 1999, compared to same periods of fiscal 1998, reflecting growth experienced in the commercial aerospace industry combined with the effect of acquisitions. Approximately 4.8% and 9.0% of the increase in sales resulted from internal growth in the current quarter and six-month period, respectively, while acquisitions contributed approximately 8.1% and 9.7% of the increase in the current quarter and six-month period, respectively. New orders have leveled off in recent months. Backlog was reduced to $158 million at December 27, 1998, down from $177 million at June 30, 1998. On a pro forma basis, including the results from acquisitions in the prior period, sales increased by 4.4% and 8.2% in the second quarter and first six months of fiscal 1999, respectively, compared to the same periods of the prior year. Operating income improved by $4.3 million, or 66.8%, in the second quarter and $9.6 million, or 108%, in the first six months of fiscal 1999, compared to the fiscal 1998 periods. Acquisitions and marketing changes contributed to this improvement. Approximately 67.4% of the increase in operating income during the first six months of fiscal 1999 reflected internal growth, while acquisitions contributed approximately 40.4% to the increase. On a pro forma basis, operating income increased by 32.9% and 48.1%, for the quarter and six months ended December 27, 1998, respectively, compared to the quarter and six months ended December 28, 1997. Aerospace Distribution Segment Aerospace Distribution sales decreased by $72.8 million, or 60.8% in the second quarter and $145.2 million, or 59.9%, for the fiscal 1999 six- month period, compared to the fiscal 1998 periods, due primarily to the loss of revenues as a result of the disposition of Banner's hardware group. Approximately 58.4% of the decrease in sales in the current six-month period resulted from divestitures, and approximately 1.5% resulted from a decrease in internal growth. On a pro forma basis, excluding sales contributed by dispositions, sales increased 0.7% in the second quarter and decreased 5.1% in the first six months of fiscal 1999, compared to the same periods in the prior year. Operating income for the three and six months ended December 27, 1998 decreased by $25.0 million and $32.7 million, respectively as compared to the prior periods. Included in the current period results was a charge of $19.3 million attributable primarily to the bulk sale of inventory at prices below the carrying amount of the inventory. Excluding this charge related to the sale of Solair in the current period, operating income would have decreased $5.7 million in the second quarter and $13.3 million in the first six months of fiscal 1999, compared to the same periods of the prior year, due primarily to the disposition of Banner's hardware group. On a pro forma basis, excluding results from dispositions, operating income decreased $0.2 million in the second quarter and $2.0 million in the first six months of fiscal 1999, compared to the same periods of the prior year. Corporate and Other The Corporate and Other classification includes the Gas Springs Division and corporate activities. The group reported a slight improvement in sales in the fiscal 1999 periods, compared to fiscal 1998 periods. An operating loss of $7.5 million in the first six months of fiscal 1999 was $7.7 million lower than operating income of $0.2 million reported in the first six months of fiscal 1998. The comparable period in the prior year included other income of $4.4 million realized as a result of the sale of air rights over a portion of the property the Company owns and is developing in Farmingdale, New York and a decline in legal expenses. FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES Total capitalization as of June 30, 1998 and December 27, 1998 amounted to $789.6 million and $743.1 million, respectively. The changes in capitalization included an decrease in debt of $12.6 million and a decrease in equity of $33.9 million. The decrease in debt was the result proceeds received from the divestiture of Solair used to reduce debt, offset partially from additional borrowings for investment purposes and the purchase of some of the Company's common stock. The decrease in equity was due primarily to a $22.1 million purchase of treasury stock and the $16.8 million reported loss, offset partially by a $4.8 million increase in cumulative other comprehensive income. The Company maintains a portfolio of investments classified as available-for-sale securities, which had a fair market value of $252.7 million at December 27, 1998. The market value of these investments decreased $2.8 million in the first six months of fiscal 1999. While there is risk associated with market fluctuations inherent to stock investments, and because the Company's portfolio is small and predominately consists of a large position in AlliedSignal common stock, large swings in the value of the portfolio should be expected. In the six months ended December 27, 1998, the Company reclassified a large portion of its investment portfolio to current assets as a result of an increased probability that these investments will be liquidated during the next twelve months, subject to market conditions. Net cash used by operating activities for the six months ended December 28, 1997 and December 27, 1998 was $91.8 million and $36.8 million, respectively. The primary use of cash for operating activities in the first six months of fiscal 1999 was a decrease of $47.5 million in accounts payable and accrued liabilities, and increases in inventories of $20.1 million and other non-current assets of $17.6 million. Partially offsetting the use of cash from operating activities was a $30.2 increase in other non-current liabilities and a $13.6 million decrease in accounts receivable. In the first six months of fiscal 1998 the primary use of cash for operating activities was a $33.7 million increase in inventories, $16.6 million increase in other current assets and accounts receivable of $7.3 million and a $35.0 million decrease in accounts payable and other accrued liabilities. Net cash provided from investing activities for the six months ended December 27, 1998 and December 28, 1997, amounted to $59.5 million and $34.5 million, respectively. In the first six months of fiscal 1999, the primary source of cash from investing activities was $57.0 million of net proceeds received from disposition of Solair, Inc., offset partially by $16.0 million of capital expenditures and $15.6 million used to purchase investments. In the first six months of fiscal 1998, the primary source of cash from investing activities were $84.7 million of net proceeds received from investment liquidations in STFI, offset partially by $16.0 million of capital expenditures. Net cash provided by (used for) financing activities for the six months ended December 27, 1998 and December 28, 1997, amounted to $52.5 million and $(35.4) million, respectively. Cash used for financing activities in the first six months of fiscal 1999 included a $69.4 million repayment of debt and the $22.1 million purchase of treasury stock, offset partially by a $55.8 million net increase from the issuance of additional debt. The primary source of cash provided by financing activities in the first six months of fiscal 1998 was the net proceeds received from the issuance of additional stock of $53.7 million. The Company's principal cash requirements include debt service, capital expenditures, acquisitions, and payment of other liabilities. Other liabilities that require the use of cash include postretirement benefits, environmental investigation and remediation obligations, and litigation settlements and related costs. The Company expects that cash on hand, cash generated from operations, and cash from borrowings and asset sales will be adequate to satisfy cash requirements. Proposed Mergers On December 28, 1998, the Company announced that it had signed a definitive merger agreement to acquire Kaynar Technologies Inc. (''Kaynar''), an aerospace and industrial fastener manufacturer and tooling company, through a merger of Kaynar with a wholly-owned subsidiary of the Company. The purchase price is $239 million for Kaynar common and preferred stock, $28 million for a covenant not to compete from the majority Kaynar shareholder, and the Company will assume approximately $98 million of Kaynar's debt. A majority of the holders of all classes of Kaynar stock have agreed to vote in favor of the merger. The transaction is subject to certain conditions, including financing and regulatory approval. On January 11, 1999, the Company reached an agreement and plan of merger to acquire all of the remaining stock of Banner not already owned by the Company. Currently, the Company owns approximately 85% of Banner's capital stock, consisting of Banner common stock and Banner preferred stock, and public shareholders own the remainder. The merger agreement is subject to approval by Banner stockholders, and certain other conditions being satisfied or waived. Pursuant to the merger agreement, each outstanding share of Banner's common stock, other than shares owned by the Company and its affiliates, will be converted into the right to receive $11.00 in market value of newly issued shares of the Company's Class A Common Stock. The merger consideration is subject to adjustments based on the price of the Company's Class A Common Stock and the value of certain shares of AlliedSignal common stock owned by Banner. The Company and Banner believe that combining will more closely coordinate the activities of the two companies. In addition, the Company expects that the merger will provide opportunities for reducing expenses, including saving the costs of operating Banner as a separate public company. After the merger, Banner will be a wholly-owned subsidiary of Fairchild. Discontinued Operations For the Company's fiscal years ended June 30, 1996, 1997, 1998, and for the first six months of fiscal 1999, Fairchild Technologies ("Technologies") had pre-tax operating losses of approximately $1.5 million, $3.6 million, $48.7 million, and $16.1 million, respectively. In response, in February 1998, the Company adopted a formal plan to enhance the opportunities for disposition of Technologies, while improving the ability of Technologies to operate more efficiently. The plan includes a reduction in production capacity, work force, and the pursuit of potential vertical and horizontal integration with peers and competitors of Technologies. The Company believes that it may be required to contribute substantial additional resources to provide Technologies with the liquidity necessary to continue operating before such integration is completed. Uncertainty of the Spin-Off In order to focus its operations on the aerospace industry, the Company has been considering for some time distributing (the ''Spin-Off'') to its stockholders certain of its assets via distribution of all of the stock of Fairchild Industrial Holdings Corp. (''FIHC''), which may own all or a substantial part of the Company's non-aerospace operations. The Company is still in the process of deciding the exact composition of the assets and liabilities to be included in FIHC, but such assets would be likely to include certain real estate interests and the Company's 31.9% interest in Nacanco Paketleme (the largest producer of aluminum cans in Turkey). The ability of the Company to consummate the Spin-Off, if it should choose to do so, would be contingent, among other things, on obtaining consents and waivers under the Company's credit facility and all necessary governmental and third party approvals. There is no assurance that the Company will be able to obtain the necessary consents and waivers from its lenders. In addition, the Company may encounter unexpected delays in effecting the Spin-Off, and the Company can make no assurance as to the timing thereof. There can be no assurance that the Spin-Off will occur. Depending on the ultimate structure and timing of the Spin-Off, it may be a taxable transaction to stockholders of the Company and could result in a material tax liability to the Company and its stockholders. The amount of the tax to the Company and the shareholders is uncertain, and if the tax is material to the Company, the Company may elect not to consummate the Spin- Off. Because circumstances may change and provisions of the Internal Revenue Code of 1986, as amended, may be further amended from time to time, the Company may, depending on various factors, restructure or delay the timing of the Spin-Off to minimize the tax consequences thereof to the Company and its stockholders, or elect not to consummate the Spin-Off. Pursuant to the Spin-Off, it is expected that FIHC may assume certain liabilities (including contingent liabilities) of the Company and may indemnify the Company for such liabilities. In the event that FIHC is unable to satisfy the liabilities, which it will assume in connection with the Spin-Off, the Company may have to satisfy such liabilities. Year 2000 As the end of the century nears, there is a widespread concern that many existing data processing devices that use only the last two digits to refer to a year will not properly recognize a year that begins with the digits ''20'' instead of ''19.'' If not properly modified, these data processing devices could fail, create erroneous results, or cause unanticipated systems failures, among other problems. In response, the Company has developed a worldwide Year 2000 readiness plan that is divided into a number of interrrelated and overlapping phases. These phases include corporate awareness and planning, readiness assessment, evaluation and prioritization of solutions, implementation of remediation, validation testing, and contingency planning. Each is discussed below. Awareness. In the corporate awareness and planning phase, the Company formed a Year 2000 project group under the direction of the Company's Chief Financial Officer, identified and designated key personnel within the Company to coordinate its Year 2000 efforts, and retained the services of outside technical review and modification consultants. The project group prepared an overall schedule and working budget for the Company's Year 2000 plan. The Company has completed this phase of its Year 2000 plan. The Company evaluates its information technology applications regularly, and based on such evaluation revises the schedule and budget to reflect the progress of the Company's Year 2000 readiness efforts. The Chief Financial Officer regularly reports to the Company's management and the audit committee of the board of directors on the status of the Year 2000 project. Assessment. In the readiness assessment phase, the Company, in coordination with its technical review consultants, has been evaluating the Company's Year 2000 preparedness in a number of areas, including its information technology infrastructure, external resources, physical plant and production facilities, equipment and machinery, products and inventory. The Company has substantially completed this phase of its Year 2000 Plan. However, the Company is continuing to assess the extent and implications relating to product inventories maintained by Fairchild Technologies that include embedded data processing technology. In addition, pending the completion of all validation testing, the Company continues to review all aspects of its Year 2000 preparedness on a regular basis. In this respect, we have designated officers at each business segment to provide regular assessment updates to our outside consultants. These consultants are assimilating a range of alternative methods to complete each phase of our Year 2000 plan and are reporting regularly their findings and conclusions to the Company's Chief Financial Officer. Evaluation. In the evaluation and prioritization of solutions phase, the Company seeks to develop potential solutions to the Year 2000 issues identified in the Company's readiness assessment phase, consider those solutions in light of the Company's other information technology and business priorities, prioritize the various remediation tasks, and develop an implementation schedule. This phase is ongoing and will not be completed until after October 31, 1999, when all validation testing is anticipated to be completed. However, identified problems are corrected as soon as practicable after identification. To date, the Company has not identified any major information technology system or non-information technology system that it must replace in its entirety for Year 2000 reasons. The Company has also determined that most of the Year 2000 issues identified in the assessment phase can be addressed satisfactorily through system modifications, component upgrades and software patches. Thus, the Company does not presently anticipate incurring any material systems replacement costs relating to the Year 2000 issues. Implementation. In the implementation of remediation phase, the Company, with the assistance of its technical review and modification consultants, began to implement the proposed solutions to any identified Year 2000 issues. The solutions include equipment and component upgrades, systems and software patches, reprogramming and resetting machines, and other modifications. Substantially all of the material systems within the aerospace fasteners and aerospace distribution segments of the Company's business are currently Year 2000 ready. However, the Company is continuing to evaluate and implement Year 2000 modifications to embedded data processing technology in certain manufacturing equipment used in its aerospace fasteners segment. At Fairchild Technologies, the Company intends, but has no specific plan, to replace and upgrade a number of its systems that are not Year 2000 compliant. Testing. In the validation testing phase, Fairchild seeks to evaluate and confirm the results of its Year 2000 remediation efforts. In conducting its validation testing, the Company is using, among other things, proprietary testing protocols developed internally and by the Company's technical review and modification consultants, as well as testing tools such as Greenwich Mean Time's Check 2000 and SEMATECH's Year 2000 Readiness Testing Scenarios Version 2.0. The Greenwich tools identify potential Year 2000-related software and data problems, and the SEMATECH protocols validate the ability of data processing systems to rollover and hold transition dates. Testing for the aerospace fasteners segment is approximately 20 percent complete, and testing for the aerospace distribution segment is approximately 30 to 40 percent complete. To date, the results of the Company's validation testing have not revealed any new and significant Year 2000 issues or any ineffective remediation. The Company expects to complete testing of its most critical information technology and related systems by June 30, 1999. Contingency Planning. In the contingency planning phase, the Company, together with its technical review consultants, is assessing the Year 2000 readiness of its key suppliers, distributors, customers and service providers. Toward that objective, the Company has sent letters, questionnaires and surveys to its business partners, inquiring about their Year 2000 readiness arrangements. The average response rate to date has been approximately 40%, but all of our most significant business partners have responded to our inquiries. In this phase, the Company also began to evaluate the risks to the Company that its failure or the failure of others to be Year 2000 ready would cause a material disruption to, or have a material effect on, the Company's financial condition, business or operations. So far, we have identified only our aerospace fasteners MRP system as being both mission critical and potentially at risk. In mitigation of this concern, we have engaged a consultant to test and evaluate the manufacturer-designed Year 2000 patches for the system. This testing has only recently commenced, but no significant problems have been identified. The Company also is developing and evaluating contingency plans to deal with events arising from significant Year 2000 issues outside of our infrastructure. In this regard, the Company is considering the advisability of augmenting its inventories of certain raw materials and finished products, securing additional sources for certain supplies and services, arranging for back-up utilities, and exploring alternate distribution and sales channels, among other things. The following chart summarizes the Company's progress, by phase and business segment, in completing its Year 2000 plan: Percentage of Year 2000 Plan Completed (By Phase and Business Segment) Quarte r Ended Sept. Dec. Mar. June Sept. Dec. Work 28, 28, 29, 30, 27, 27, 1997 1997 1998 1998 1998 1998 Remaini ng Awareness: Aerospace 50% 100% 100% 100% 100% 100% 0% Fasteners Aerospace 100 100 100 100 100 100 0 Distribution Assessment: Aerospace 25 50 75 100 100 0 Fasteners Aerospace 0 0 0 50 100 0 Distribution Evaluation: Aerospace 0 70 30 Fasteners Aerospace 20 100 0 Distribution Implementation: Aerospace 50 50 Fasteners Aerospace 40 60 Distribution Testing: Aerospace 20 80 Fasteners Aerospace 30-40 60-70 Distribution Contingency Planning: Aerospace 0 20 80 Fasteners Aerospace 25 50 50 Distribution The following chart summarizes the total costs incurred by the Company as of December 27, 1998, by business segment, to address Year 2000 issues, and the total costs the Company reasonably anticipates incurring during 1999 relating to the Year 2000 issue. Year 2000 Costs Anticipated Year 2000 as of Costs December 27, During the Next Twelve 1998 Months Aerospace Fasteners $250,000 $2,000,000 Aerospace Distribution $550,000 $ 100,000 The Company has funded the costs of its Year 2000 plan from general operating funds, and all such costs have been deducted from income. To date, the costs associated with the Company's Year 2000 efforts have not had a material effect on, and have caused no delays with respect to, our other information technology programs or projects. The Company anticipates that it will complete its Year 2000 preparations by October 31, 1999. Although the Company's Year 2000 assessment, evaluation, implementation, testing and contingency planning phases are not yet complete, the Company does not currently believe that Year 2000 issues will materially affect its business, results of operations or financial condition. However, in some international markets in which the Company conducts business, the level of awareness and remediation efforts by third parties, utilities and infrastructure managers relating to the Year 2000 issue may be less advanced than in the United States, which could, despite the Company's efforts, have an adverse effect on us. If the Company's Year 2000 programs are not completed on time, or its mission critical systems are not Year 2000 ready, the Company could be subject to significant business interruptions, and could be liable to customers and other third parties for breach of contract, breach of warranty, misrepresentation, unlawful trade practices and other claims. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In June 1997, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 131 ("SFAS 131") "Disclosures about Segments of an Enterprise and Related Information." SFAS 131 supersedes Statement of Financial Accounting Standards No. 14 "Financial Reporting for Segments of a Business Enterprise" and requires that a public company report certain information about its reportable operating segments in annual and interim financial reports. Generally, financial information is required to be reported on the basis that is used internally for evaluating segment performance and deciding how to allocate resources to segments. The Company will adopt SFAS 131 in fiscal 1999. In February 1998, the FASB issued Statement of Financial Accounting Standards No. 132 ("SFAS 132") "Employers' Disclosures about Pensions and Other Postretirement Benefits." SFAS 132 revises and improves the effectiveness of current note disclosure requirements for employers' pensions and other retiree benefits by requiring additional information to facilitate financial analysis and eliminating certain disclosures which are no longer useful. SFAS 132 does not address recognition or measurement issues. The Company will adopt SFAS 132 in fiscal 1999. In June 1998, the FASB issued Statement of Financial Accounting Standards No. 133 ("SFAS 133") "Accounting for Derivative Instruments and Hedging Activities." SFAS 133 establishes a new model for accounting for derivatives and hedging activities and supersedes and amends a number of existing accounting standards. It requires that all derivatives be recognized as assets and liabilities on the balance sheet and measured at fair value. The corresponding derivative gains or losses are reported based on the hedge relationship that exists, if any. Changes in the fair value of hedges that are not designated as hedges or that do not meet the hedge accounting criteria in SFAS 133 are required to be reported in earnings. Most of the general qualifying criteria for hedge accounting under SFAS 133 were derived from, and are similar to, the existing qualifying criteria in SFAS 80 "Accounting for Futures Contracts." SFAS 133 describes three primary types of hedge relationships: fair value hedge, cash flow hedge, and foreign currency hedge. The Company will adopt SFAS 133 in fiscal 1999 and is currently evaluating the financial statement impact. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The table below provides information about the Company's derivative financial instruments and other financial instruments that are sensitive to changes in interest rates, which include interest rate swaps. For interest rate swaps, the table presents notional amounts and weighted average interest rates by expected (contractual) maturity dates. Notional amounts are used to calculate the contractual payments to be exchanged under the contract. Weighted average variable rates are based on implied forward rates in the yield curve at the reporting date. Expecte d Fiscal Year Maturit y Date Thereaf 1999 2000 2001 2002 2003 ter Interest Rate Swaps: Variable to Fixed - 20,000 60,000 - - 100,000 Average cap rate - 7.25% 6.81% - - 6.49% Average floor rate - 5.84% 5.99% - - 6.24% Weighted average - 4.99% 4.80% - - 5.44% rate Fair Market Value - (88) (731) - - (9,828) PART II. OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: *27 Financial Data Schedules. * - Filed herewith (b) Reports on Form 8-K: There have been no reports on Form 8-K filed during the quarter. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to the signed on its behalf by the undersigned hereunto duly authorized. For THE FAIRCHILD CORPORATION (Registrant) and as its Chief Financial Officer: By: Colin M. Cohen Senior Vice President and Chief Financial Officer Date: March 25, 1999 EX-27 2 WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE. [TEXT]
5 1,000 6-MOS JUN-30-1999 DEC-27-1998 16,063 216,260 98,514 3,079 174,682 556,980 222,828 98,382 1,083,641 162,012 278,229 0 0 2,933 436,687 1,083,641 299,720 300,489 227,666 285,750 0 0 14,147 (17,894) 6,433 (7,637) (9,180) 0 0 (16,817) (0.76) (0.76)
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